Arr, Press-Gang a-comin' fer the pirate ship "Swaptions"

Isn't there some additional legislative action to be taken? (6.00 / 1)

I have to think there's something. Can't they remortgage it somehow?

In any event, there should be a 'no swaption' legislation that passes, directed toward government entities, so this boondoggle doesn't happen in the future. To think that the people of this state are in this mess because of stupid exec decisions over at the turnpike is borderline criminal.

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My thoughts are mine and mine alone. They should not be considered representative of any other organization, group or person - save me.

~Ryan.

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by: Ryepower12 @ Thu Mar 05, 2009 at 06:09:22 AM CST

"Can't they remortgage it somehow?" (6.00 / 1)

No.  That's a big part of the problem.  SHNS (no link):

The deal appears to have backfired, as the turnpike received about $29 million in Big Dig funding but has been unable, due to its own lowered credit rating and difficult financial markets, to refinance $800 million in bonds.

They'd sell the bonds if they could.  No one's buying.

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by: David @ Thu Mar 05, 2009 at 08:33:52 AM CST

[ Parent ]

What about a straight loan? (6.00 / 1)

I know, for example, my hometown last fall, when the economy tanked, didn't even try to sell bonds -- and got a pretty good loan from Eastern Bank. If the state signed onto that and could do that, I'd have to imagine we could take out that sort of credit line at a fairly low interest rate. It's a helluva lot better than getting hit with almost $400 million we'd have to pay fast.

And if not, raise taxes .1-2% for one year and we can just pay off the debt. That's much preferable to the alternative.  

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My thoughts are mine and mine alone. They should not be considered representative of any other organization, group or person - save me.

~Ryan.

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by: Ryepower12 @ Thu Mar 05, 2009 at 08:56:33 AM CST

[ Parent ]

Swaptions (0.00 / 0)

Swaptions aren't bad they've just done bad things through no fault of their own. I'm not bad, I'm just drawn that way.

Swaptions may be really complicated, but the concept is very simple:  

1:  I (the Pike) borrow money but the bank will only lend variable rate debt.  This is common practice for common sense reasons.

2:  Because I have relatively fixed income (tolls and rent) I would prefer to have fixed and predictable debt payments so I can set the rents and tolls, comfortable that I won't have to go to the public often seeking increases.  How to do that?

3:  Guys with tailored white french cuff shirts walk in - Lehman, UBS, JPM, et al - and tell me they'll undertake to pay the variable rate and I'm obligated to pay a fixed rate. I contract to pay them, and they take this Contract, this piece of paper, and sell it to their rich clients. Life's good: UBS gets its fees; I have a predictable debt service; investors have a piece of paper that promises to pay them a return.

4: Detail of the contract: if the variable rate exceeds a certain range, or if the credit rating of the Agency fall then the investor can demand more money.

5: In the case of the Pike both happened: (1) the interest rate spread (the diff between Libor and a bond index) rose (2) the credit rating of the Authority fell.  And the Banksters want their money.  The rate spread was beyond the control of the Pike; the credit rating WAS NOT.  Pikesters blew it, government ignored it and made it worse, day by day and continue to make it worse day by day by dithering.

6:  No problem, right? Banksters want money so all along the Pike knew it could go to the Bond market and issue new debt and refinance its way out of the problem.  CRASH! Authority's VRDO market fell apart and no one wants to lend an i) insolvent ii) dithering iii) outwardly appearing incompetent Authority, money.  I say outwardly appearing, because the current Pike-guy LeBovitch is a very smart and very competent guy well suited for this current financial problem.

7:  Backed into a corner, the Pike Trustees have only one source of funding: tolls.  They have no fiduciary (duty to bondholders) choice other than i) levy tolls ii) vast layoffs and cost containment iii) refinance at junk-bond prices.

8:  Backed into a corner, the State has several choices: i) gas tax ii) tolls iii) cost containment iv) privitization v) refinancing. vi) State guarantee of existing debt vii) settlement discussion with the Banksters.

Any plan that doesn't have a complement of all 7 is a poor plan.  Poor, because the goal ought be to spread the cost widely.  Toll I-93 you political bastards!

Any plan that relies on only one (i.e. 19 cent gas tax) is a lazy and political plan taking the easy out rather than the thoughtful, difficult approach.

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by: gary @ Thu Mar 05, 2009 at 07:51:12 AM CST

Um... you have it backwards on #1... (6.00 / 1)

1:  I (the Pike) borrow money but the bank will only lend variable rate debt.  This is common practice for common sense reasons.

As Steve Bailey's astute article points out, the pike started with 2.2b in fixed rate debt.  As is further pointed out the Pike, either through misunderstanding swaps/swaptions or sheer wishful thinking on future income, entered into the deal with UBS not as a hedge against variable rates but to get some cold hard cash upfront to fund operations. They ended up with a variable rate... which is the problem: they're now obliged to pay UBS from that variable rate.  UBS, hurting like every other bank, needs the cash.   Oops.  

It's a little hazy from there, but it seems that Lehman actually approached the Pike Authority with another swaption that would mitigate the risk of the UBS swaption... and again, they end up with a variable rate.  Of course, then Lehman up and has the fiscal equivalent of a massive coronary and dies.  Plop.  

As for the Pikes choices... Well, I suspect that, if this deal hadn't blown up in their faces, they'd be looking for more swaps/swaptions to mitigate the deleterious effects of their continuing bad decisions.  Kinda like revolving credit... only their now at the point where the applications for credit are being denied.  

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"Providing health care to the uninsured is a job killer, while not providing health care is merely a people killer....   Bonus: Job Openings!!"

--Stephen Colbert

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by: petr @ Thu Mar 05, 2009 at 08:11:46 AM CST

[ Parent ]

"They ended up with a variable rate... which is the problem: they're now obliged to pay UBS from that variable rate." (0.00 / 0)

I don't think that's quite right.  The current problem is not the variable rate.  The problem is the enormous one-time payout that UBS can call if the Pike's bond insurer (Ambac) gets downgraded, which apparently seems likely.

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by: David @ Thu Mar 05, 2009 at 08:38:25 AM CST

[ Parent ]

Perhaps so... (0.00 / 0)

.. However the article I posted leads me to believe that we're stuck with a variable rate. To wit:

It hasn't worked out that way. Given current rates, UBS is signaling it is highly likely to exercise its option next month or soon after. Lehman is not likely to exercise its option. In fact, say financial analysts, it was never likely UBS and Lehman would exercise their options simultaneously.

The situation could leave the turnpike with 31 percent of its debt in unhedged variable-rate debt -- not good for an agency that relies on a pretty steady stream of income. The Commonwealth, by comparison, has only 6.7 percent of its general obligation bonds in variable debt. Hoping for low short-term rates isn't much of a strategy. In addition, the turnpike faces a huge termination payment -- about $50 million -- to Lehman if its debt rating falls below certain levels.

A turnpike spokesman declined to comment.

.. But, really,  the bottom line is just this: it's a house of cards, only the cards are made outta lead, covered in asbestos and embedded with jagged shards of broken glass.  Oh... and the house is filled with 55 gallon drums full of kerosene and fertilizer...  

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"Providing health care to the uninsured is a job killer, while not providing health care is merely a people killer....   Bonus: Job Openings!!"

--Stephen Colbert

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by: petr @ Thu Mar 05, 2009 at 09:02:56 AM CST

[ Parent ]

Clarification (0.00 / 0)

As another Globe article makes clear, as of Jan we had avoided the lump sum:

Swiss financial giant UBS backed off a legal claim it made last week that the authority would have to pay a lump sum to settle a risky investment that the two parties agreed to in 2001. In its letter last week, UBS gave the authority 30 days to fix its credit problems or risk having to pay off the investment's entire value.

But...

Even if the authority succeeds in avoiding a lump sum payment, it is required to pay UBS $2.2 million per month as a result of changes in the credit market.

Ambac (the insurer here, kinda like a smaller AIG) is on the verge of being downgraded to 'junk status' and we're in a tearing hurry to institute tolls and give UBS some reason to believe they'll get something from us.


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"Providing health care to the uninsured is a job killer, while not providing health care is merely a people killer....   Bonus: Job Openings!!"

--Stephen Colbert

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by: petr @ Thu Mar 05, 2009 at 09:40:30 AM CST

[ Parent ]

Yes, but ... (6.00 / 1)

the lump sum is back on the table.  That's what all the recent stories are about.  Yesterday's SHNS (no link, my emphasis):

The Senate on Wednesday gave preliminary approval to House-passed legislation reinstating the state's credit backing behind a risky turnpike authority debt financing deal that is costing the agency $25 million this year and could force a one-time payment to the firm UBS of $363 million.

The bill is scheduled for full debate Thursday, as lawmakers look to take a step they hope will avert the payment, which UBS will be entitled to demand should Standard and Poor's further lower the credit rating of turnpike insurer Ambac Assurance Corporation.

Treasurer Tim Cahill last week "reluctantly" recommended reinstating the credit backing, which expired Jan. 15, saying it's the best way to avoid facing the lump sum payment, which state finance officials view as likely to be requested.

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by: David @ Thu Mar 05, 2009 at 09:53:53 AM CST

[ Parent ]

Original debt (0.00 / 0)

As Steve Bailey's astute article points out, the pike started with 2.2b in fixed rate debt.  As is further pointed out the Pike, either through misunderstanding swaps/swaptions or sheer wishful thinking on future income, entered into the deal with UBS not as a hedge against variable rates but to get some cold hard cash upfront to fund operations.

I don't know Steve Bailey from nothing, but I do know that i) the Pike got cash up front as I mentioned elsewhere and ii) the MHS Series A and Series C, totaling $1.2 billion is variable.  I just checked Moody's.  It's range-variable, meaning it has a floor and ceiling, but it's variable.

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by: gary @ Thu Mar 05, 2009 at 09:04:04 AM CST

[ Parent ]

Original sin... (0.00 / 0)

don't know Steve Bailey from nothing, but I do know that i) the Pike got cash up front as I mentioned elsewhere and ii) the MHS Series A and Series C, totaling $1.2 billion is variable.  I just checked Moody's.  It's range-variable, meaning it has a floor and ceiling, but it's variable.

Oh goody, I was afraid, (but only for a moment) that you'd be taking the wrong thing seriously... You are correct, of course, when you imply that the only good reason to enter into a swaption is to mitigate variable rate interest risk.  This is, however, demonstrably NOT the reason the Pike entered into the UBS swaption: the reason the Pike entered into the swaptions to begin with had NOTHING to do with the initial (fixed) interest rates on the debt, as you had implied.  They wanted (maybe needed) the money.

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"Providing health care to the uninsured is a job killer, while not providing health care is merely a people killer....   Bonus: Job Openings!!"

--Stephen Colbert

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by: petr @ Thu Mar 05, 2009 at 09:30:41 AM CST

[ Parent ]

Hey Cap'n Bob 2 front page posts on same issue... (0.00 / 0)

This one has your attention and Motivation Cap'n. Me think you see a storm brewing.

This is just one more effect of the financial meltdown and UBS to boot in this one. Any one catch the story this AM on UBS refusing to turn over the names of the Americans they helped dodge taxes with Uncle Sam by setting up off shore and Swiss accounts makes for some interesting reading

Unfortunately state bonds are not getting much more interest then turnpike bonds which are rated near junk bonds. So we are playing a shell game of moving obligations from here to there hoping that some day the markets will return to more normal practice. Yet the advantage now is the crush for cash has moved the agenda forward and provided opportunity to close down the turnpike and merge all of transportation into one branch and maybe just maybe with combined efforts we will see cost savings from sharing resources and work forces. At no other time would this occur. Swaptions hey Cap'n it be the only port in this storm let's hope those pirates on the hill get it right and we get a good rate. EYE!

As Usual just my opinion

Ethics reform should be more then a dream!
Boycott AIG!Save the children's Future

Edward R. Quinn

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by: WoburnDem @ Thu Mar 05, 2009 at 09:59:51 AM CST

[ Parent ]

Aye, matey (0.00 / 0)

This is a very interesting story.

BMG: Reality-based commentary.

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by: Bob Neer @ Thu Mar 05, 2009 at 10:07:55 AM CST

[ Parent ]

link? (0.00 / 0)

It sounds like the terms of the swaps underlying the options were such that if rates rose to a certain level the swaption counterparties would exercise their options and the effective result would be that the Turnpike debt would convert from floating to fixed? So aside from generating near term cash flow (which I thought was the biggest driver for entering into these trades) the swaptions presumably were designed to protect the Turnpike from a spike in rates on their variable rate debt.  

I'd love to see the terms of the underlying swaps to understand what risks the turnpike was assuming in writing the options.  For instance, were there any offsetting trades done to protect the Turnpike once rates spiked up (thereby converting the floating rate debt to fixed and leaving the turnpike exposed if rates fell in the future)?  Were those the trades with Lehman?

Does anyone have a link?

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by: Pbrane @ Thu Mar 05, 2009 at 18:11:40 PM CST

[ Parent ]

See the current front-page post. (0.00 / 0)

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by: David @ Thu Mar 05, 2009 at 21:32:17 PM CST

[ Parent ]